Analysis: New York suit against JPMorgan makes a ripple, not a splash

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Published October 02, 2012

| Reuters

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WASHINGTON – New York state's lawsuit against JPMorgan Chase & Co alleging fraud in mortgage-backed securities sold by Bear Stearns may be one of the broadest cases to come out of the financial crisis, but its impact is likely to be limited. The biggest beneficiaries may be investors who have taken out private lawsuits against the bank.

The civil suit, brought by New York Attorney General Eric Schneiderman, is the first from a federal-state financial fraud task force. It did not unearth any previously unknown details or attempt to assign criminal liability.

Instead, it largely follows in the footsteps of private suits from investors who have accused Bear Stearns and other firms of deceptively selling toxic mortgage-backed securities.

While the state could extract a monetary settlement out of JPMorgan that rivals other financial-crisis cases and government officials pledged more cases will follow, the biggest outcome of the New York state suit will be to add firepower to multibillion-dollar private litigation dogging Wall Street.

"With the tools available to the attorney general...we have a better prospect of getting the whole story out," said Don Hawthorne, a New York lawyer who has brought cases against banks on behalf of bond insurers.

New York state's suit gives private plaintiffs more leverage to extract settlements from the banks they are targeting. It also could give investors more evidence as litigation unfolds

The lawsuit, filed late Monday, accused Bear Stearns of deceiving investors by leading them to believe the quality of loans in the mortgage-backed securities had been carefully evaluated, even though they had not been.

It charges that Bear systematically ignored defects in the loans and kept investors in the dark.

The suit differs from prior government financial-crisis suits, such as the U.S. Securities and Exchange Commission's case that accused Goldman Sachs of misleading investors on one subprime mortgage product in 2007. That case was settled.

The 31-page complaint against JPMorgan more closely resembles a less-detailed version of dozens of private cases out there, including a lawsuit from bond insurer Ambac Assurance Corp against the Wall Street bank.

U.S. banks face billions of dollars in potential liability from investors who bought now-soured mortgage-backed securities and from insurers who were stuck with losses from the bonds.

But experts did not think New York state's suit would immediately add to banks' risk. "We do not see this litigation as a game changer as it is similar to many of the civil suits that already are pending," Jaret Seiberg of Guggenheim Partners said in a Tuesday investors note.

JPMorgan's stock price barely reacted to the news, dipping just 0.1 percent on Tuesday to close at $40.92.

Through the lawsuit, New York wants JPMorgan to return profits obtained through the alleged fraud and pay damages. {ID:nL1E8L202Y]

JPMorgan said in a statement late Monday it would contest the allegations, and noted that the suit does not target JPMorgan's activity in the lead-up to the crisis.

The suit "relates to Bear Stearns, which we acquired over the course of a weekend at the behest of the U.S. Government. This complaint is entirely about historic conduct by that entity," the statement said.

MORE TO COME

Schneiderman and federal authorities discussed the case during a press conference in Washington on Tuesday and said more actions were coming, although they declined to provide specifics.

"We are looking forward to more cases," Schneiderman said at the U.S. Justice Department's headquarters.

The civil lawsuit against JPMorgan was brought under a powerful New York state law known as the Martin Act, which generally does not require proof of intent, a major stumbling block in most fraud cases.

The statute allows the New York attorney general's office to pursue both criminal and civil cases, although the 2006 and 2007 conduct in the JPMorgan complaint appears to fall outside the statute of limitations of two years for misdemeanors and five for felonies. The civil statute of limitations is six years.

The New York attorney general's office has for years been investigating misdeeds related to the packaging and sale of home loans. In 2008, Schneiderman's predecessor, Andrew Cuomo, sent subpoenas to a handful of banks, including Bear Stearns, Deutsche Bank AG, Morgan Stanley, Merrill Lynch & Co. and others, according to news reports at the time.

Earlier this year, the U.S. Justice Department also issued more than a dozen civil subpoenas to top banks on the issue.

The announcement comes weeks before the presidential election, but the Justice Department said there was no political connection on the timing of the case.

"When cases are mature and ready to be brought, we bring them," said acting Associate Attorney General Tony West.

President Barack Obama, who is trying to show he is helping the nation move past the devastating housing crisis and resulting recession, announced the task force in his January State of the Union speech. At the time, he said the group would "help turn the page on an era of recklessness that hurt so many Americans."

The working group includes the Justice Department, the U.S. Department of Housing and Urban Development, the Securities and Exchange Commission, the New York Attorney General's office and other agencies.

In forming the group, officials said it was designed to avoid duplicating efforts and collaborate on specific cases to bring actions more quickly.

OVERNIGHT RESCUE

When JPMorgan purchased Bear Stearns, the investment bank's instability was threatening the larger financial system. The Federal Reserve and Treasury were desperate to find a buyer who could take on its toxic assets and help calm markets.

Bear Stearns was the No. 1 U.S. underwriter of residential mortgage-back securities in 2005, 2006 and 2007, Thomson Reuters league tables show.

The officials in the working group defended the decision to go after JPMorgan in their first lawsuit, even though the federal government encouraged and was heavily involved in the investment bank's purchase of Bear Stearns.

"The liability traveled with the company, so it would be far worse for us to send the message that this kind of fraud is to be tolerated," Schneiderman said. "No one is above the law."

It was unclear how strong a legal defense JPMorgan will have, said John Coffee, director of Columbia University Law School's Center on Corporate Governance, who noted that JPMorgan acquired Bear Stearns through "an arranged marriage."

"Morally it's not JPMorgan's responsibility but there were losses and the public wants the historical record set right," Coffee said. "They took the bitter with the sweet when they accepted a major package of federal financing to complete the deal."

(Reporting By Aruna Viswanatha and David Ingram in Washington and Jed Horowitz, Karen Freifeld and Cezary Podkul in New York; Editing Karey Wutkowski and David Gregorio)